New research shows that advisors, while experts in their clients’ eyes, may not be best suited to manage portfolios on their clients’ behalf.
Cerulli notes that fee-based managed account platforms come in several flavors, but the most significant in recent years has been the rise of what it termed the “rep-as-portfolio-manager” program type that give advisors independence to construct portfolios on their clients’ behalf. There is, of course, oversight from the firm to make sure that advisors not only conduct due diligence on managers, but also practice risk control. That said, Cerulli notes in the May 2016 issue of The Cerulli Edge – U.S. Edition that several firms have been successful pursuing another offering, packaging portfolios at the home office and using their advisor forces as relationship managers and financial planners.
Packaged Portfolio Growth
As of year-end 2015, the managed account industry was comprised of more than $2 trillion in open arrangements in which advisors and clients have significant freedom to manage portfolios and select managers, while these so-called “packaged portfolios,” in which the home office retains discretion, control approximately $875 billion in assets under management, according to Cerulli.
However, the report notes that while advisor and client discretionary platforms are more than double the size, packaged portfolios have gained significant market share during the past decade, growing from 8% of the industry in 2005 to 22% in 2015, with a sizeable portion of this growth due to the decline of separate accounts as a preferred platform for investing on clients’ behalf. (For sizing purposes, Cerulli excludes separate accounts from discretion and packaging sizing.) That said, Cerulli says that these platforms gained market share at a faster rate than both open and hybrid platform offerings, reflecting above-average growth rates for the 10-year time period.
Cerulli’s research revealed several interesting differences between portfolios in these various arrangements:
- From the period 1Q 2010-4Q 2014, portfolios constructed by home office teams outperformed those constructed by advisors and their clients. Specifically, during this time period, $100,000 invested in a packaged home office portfolio grew to $136,700, whereas a portfolio of the same amount in open arrangements only grew to $133,745 (hybrid) or $133,550 (open).
- When analyzing the difference in performance, packaged platforms are less tactical than portfolios in open arrangements, and thus when the market declines, packaged portfolios decline further than their open counterparts, and after prices recover, packaged portfolios generate higher returns than their open counterparts.
The report says these trends suggest that advisors (and their clients) try to time the market and sell out of their positions when the market falls. While this dampens the fall in the account, Cerulli says that in many cases when the market recovers, they are too late to re-enter successfully.
Another rationale for the performance differential is the contrast in manager selection between advisors and home office gatekeepers. According to a survey conducted by Cerulli Associates at the beginning of 2015, home office teams are more likely to weight the importance of quantitative factors when selecting managers. For home office teams, which typically have an extensive gatekeeper function, the three most important factors are:
- a consistent style of investing;
- superior risk-adjusted returns; and
- an unblemished ethical reputation.
In contrast, Cerulli says, advisors are more likely to value qualitative factors.
The report notes that home office teams also have significantly more money invested in the market at any given time; advisors keep approximately 4% of their portfolio in cash, while home offices choose to invest the cash.
As technology changes the wealth management industry and a new generation seeks solutions to aid in their retirement planning, Cerulli says it believes the trend toward home office packaged advice will continue. Moreover, it counsels that firms should address this challenge by developing hybrid structures that combine the scalable nature of the home office portfolio with advisor or registered rep teams that engage with the client to deliver support during downturns, financial planning, and estate planning advice.
